The Reliability of Fair Value in Investment Property. a study on Swedish real estate companies

Abstract

Background and discussion: Since 2005 all listed companies in Europe have to present their financial reports according to the International Financial Reporting Standards regulation. For listed real estate companies the new regulations led to the adoption of IAS 40, which consequently caused a shift from the cost method to the fair value method. This change started a debate of reliability versus relevance, as the cost method was seen as more reliable, while fair value is seen more relevant. Purpose: The purpose of this thesis is to investigate how reliable the value of investment property is in the annual reports of Swedish real estate companies. The factors of ownership structure, management incentives and capital structure are investigated to see how they affect the reliability of the value. Research design: Two approaches are used in this study; the first and main study uses data from the annual reports of all listed real estate companies on NASDAQ OMX Stockholm between 2005 and 2013. Second, four interviews were conducted, where two banks and two external evaluators have been interviewed to verify the results of the first study. The collected data is then analysed and compared to the theoretical framework. Results and conclusions: The quantitative study shows that investment properties on average are sold at 13.6 per cent above booked value and the property is increased with an average of 1.8 per cent each year. This indicates that the values of investment property do not represent a true and fair view and thus the reliability aspect can be questioned. Furthermore, the factors of capital structure, management incentives and ownership structure do affect the reliability, however not as much as the variables of year, external valuator or big four auditor. Suggestions for further studies: For further research it would be interesting to include the company's assumptions in the valuation process. Another interesting research would be to closely investigate the time factor of the sale. Finally, it would be interesting to include some years before the implementation of IAS 40 as it would give the possibility to compare the reliability aspect before and after the implementation of the new standard.